Dynegy says `no' to merger

Downgrades push Enron to edge of bankruptcy

Once-mighty Enron Corp. teetered on the brink of bankruptcy Wednesday after energy-trading rival Dynegy Inc. pulled the plug on a life-saving merger.

Dynegy backed out of the deal, which had called for Dynegy to buy Enron for $9 billion in stock plus assumption of billions of dollars of debt, shortly after two agencies downgraded Enron's credit rating to junk-bond status. The downgrades required cash-strapped Enron to immediately repay $3.9 billion out of $13 billion in debt and triggered an escape clause that Dynegy had written into the merger agreement.

"It's the death knell for Enron, and the ramifications and ripples through the financial community are significant," said Michael Farr, president of Farr, Miller & Washington, a Washington, D.C., brokerage firm. Other energy-trading firms ceased doing business with Enron, for instance, and the collapse of the deal sent shock waves through stock and bond markets.

Meanwhile, Dynegy said it was exercising a right negotiated under the merger agreement to buy Enron's lucrative natural gas pipeline business, the acquisition of which analysts said had been one of Dynegy's strongest motivations to merge with Enron in the first place. Dynegy is known in Illinois for its ownership of Downstate utility Illinois Power and many area power-generating plants.

"Our first priority is to protect our shareholders and our financial position," said Chuck Watson, chairman and chief executive of Dynegy. "We know when to say `no' and this morning we say `no.'"

Dynegy's decision to pull out caps the extraordinarily quick flameout of Enron, the Houston-based company that until three months ago was the dominant force in energy trading. Enron stock traded at a high of $90.56 in August 2000 and opened at $4.11 Wednesday morning, before dropping 85 percent on the day, closing at just 61 cents a share.

Enron's meltdown underscores the sometimes-shaky underpinnings of commodity trading businesses and has left analysts and investors aghast at how quickly Enron's vaunted trading business dissolved.

Enron's troubles began with revelations about soured transactions with energy partnerships run by one of its former executives. Last month Enron disclosed that it had shrunk its shareholder equity by $1.2 billion to buy back 55 million shares it had issued to the partnerships. The charge for "unwinding" the web of partnerships gave the company a $618 million third-quarter loss.

On Nov. 9, Dynegy said it would acquire its hobbled competitor, agreeing to pay the equivalent of about $10 a share for a company that as recently as last January traded above $80 a share. But, by then, energy-market participants already had begun pulling away from Enron, and repeated downgrades of its debt rating and a continuing stock price plunge quickly doomed the deal.

Pipeline coveted

For Dynegy, killing the deal still may leave it with a prized asset, the Northern Natural Gas pipeline. Dynegy and its partner, Chevron Texaco Corp., which own a 26 percent stake in Dynegy, received the option after infusing troubled Enron with $1.5 billion in cash.

Northern Natural owns and operates 16,500 miles of interstate natural gas pipeline spanning from the Permian Basin of Texas to the Great Lakes. However, some questions remain about competing claims on the pipeline if, as expected, Enron files for bankruptcy.

Under the terms of the pipeline agreement, Enron has 180 days from Nov. 9 to repurchase Northern Natural from Dynegy at a price equal to $1.5 billion, Watson said.

Although Dynegy's own stock price has taken a wild ride over the past few weeks, swinging up and down as the merger deal was negotiated, debated and abandoned, analysts said the collapse of the deal won't have a lasting negative effect.

"It's not a disaster for Dynegy; it's a little egg on their face," said Jon Kyle Cartwright, senior energy analyst for Raymond James.

Paul Forrester, a partner with Mayer Brown & Platt in Chicago, a firm that performs legal work for both Enron and Dynegy, agreed.

"I don't think there's any particular cost to Dynegy to not dealing this deal," Forrester said. "They are getting what they wanted [in the Northern Natural Gas pipeline]. They've got a head start over everyone else looking at this asset."

Farr compared Enron's meltdown to that of Long-Term Capital Management, the deeply flawed private investment fund that in 1998 received a government-induced bailout from major financial institutions that had financed its schemes.

"Although the scale is different, there are similarities to the Long-Term Capital situation, where there will be a lot of entities holding the bag, most of them banks," Farr said.

Certainly, Enron would be the largest corporate bankruptcy case in history, far bigger than the 1987 bankruptcy filing of Texaco Inc.

A month ago Citigroup Inc. and J.P. Morgan Chase & Co. each lent $500 million to Enron to help get it through the merger deal. "That money is gone," Farr said.